Financial Numbers for Credit Denial: Part I

In two previous articles we examined a number of ways to get denied for credit. Now let’s shift gears and focus on financial numbers that will impact the credit decision.

Continually Showing a Negative Profit The goal of many producers is to minimize income taxes, both state and federal. To do so, some purchase machinery, which bumps up their overhead cost causing a higher breakeven cost overall. Others prepay expenses, which is not a bad strategy, while still others defer their income. The bottom line is that lenders prefer to see a profitable business with an upward trend.

A veteran friend of mine used a tax management strategy which led to negative profit. When he applied for a loan, he was denied and eventually paid a higher interest rate because of negative profits.

Coverage Ratio Below 100% The coverage ratio is used to determine your capacity to meet debt service obligations. The ratio is calculated by taking net farm income, adding depreciation, interest paid, and non-farm income, then deducting living expense and income taxes. Then divide this “capacity” by the debt payment amount. For example, $200,000 capacity and $100,000 debt payments would be 200% coverage. This would be strong in the lender’s eyes. When this ratio is below 125% and approaching 100%, warning bells sound in the lender’s mind.

Editor’s note: Dave Kohl, The Corn And Soybean Digest Trends Editor, is an ag economist specializing in business management and ag finance. He recently retired from Virginia Tech, but continues to conduct applied research and travel extensively in the U.S. and Canada, teaching ag and banking seminars and speaking to producer and agribusiness groups. He can be reached at sullylab@vt.edu.